Plan Aims to Turn Property-Tax Bills Into Charitable Deductions to Skirt Overhaul

FAIR LAWN, N.J. -- As residents in high-tax states brace for bigger tax bills under the recently passed federal tax overhaul, a New Jersey congressman is pushing local governments to adopt a strategy that could save homeowners thousands of dollars.

Rep. Josh Gottheimer, a Democrat who represents parts of New Jersey's wealthy Bergen County, said his plan would help homeowners hurt by the new law's provision capping state and local tax deductions at $10,000 a year. Under the proposal, towns and cities would establish charitable funds, which homeowners could contribute to in exchange for tax credits applied toward their property-tax bills. Charitable contributions remain fully deductible under the new law.

"Yes, it may seem too good to be true, but this is exactly the kind of tax planning we need in the face of this assault on New Jersey," Mr. Gottheimer said, referring to the new tax law.

The Republican tax law, signed by President Donald Trump in December, lowers tax rates on individuals and businesses while limiting some tax breaks.

Officials in high-tax states such as New Jersey, New York, Connecticut and California are scrambling to minimize the impact of the new tax law, which took effect Monday. It is far from clear that these creative strategies will become law or will fly with federal tax authorities.

Local governments in some towns and counties across the tri-state area accepted prepayments from homeowners looking to maximize their property-tax deductions in the final days of 2017.

New York Gov. Andrew Cuomo has pledged to sue the federal government over the tax law, which he said unconstitutionally discriminates against Democratic, high-tax states. His administration is also considering several legislative ideas, including converting some of the state income tax on individuals into a payroll tax on employers. That would allow the employers to deduct that cost where individuals couldn't.

In New Jersey, Gov-elect Phil Murphy, a Democrat, pledged his support for Mr. Gottheimer's proposal at a news conference Friday. Mayors from three towns in Bergen County, where state records show the average residential property-tax bill topped $11,000 in 2016, said they would move to establish charitable funds.

Mr. Murphy said he would look into minimizing the new tax bill's impact statewide after he takes office later this month, both through legal action and possibly using a payroll tax. But the charitable fund proposal represents a time-tested tactic that can quickly be put into effect, he said.

"This one we believe has real legs and real precedent," Mr. Murphy said. "We are all in on this."

An example of how Mr. Gottheimer's proposal could work: A taxpayer who owes $15,000 in property taxes could contribute the same amount to her town's charitable fund. The town would then give the taxpayer a credit of up to $15,000, which could only be applied toward her property-tax bill.

Under the new law, the taxpayer could only deduct $10,000 in local and state taxes from her federal liability. But under Mr. Gottheimer's proposal, the taxpayer could deduct the $15,000 she contributed to her local charitable fund. Individual towns and cities would determine the amount of credit they would offer to taxpayers.

E. Martin Davidoff, a certified public accountant and tax attorney based in Dayton, N.J., said he didn't think the proposal would pass legal muster because charitable deductions are typically allowed only for contributions that were made without receiving any benefit in return. Someone at a charity auction who spends $15,000 to purchase a painting that is valued at $10,000, for example, can only deduct $5,000 on their tax return, he said.

"It's not going to work," Mr. Davidoff said about Mr. Gottheimer's proposal. "If it does work, it will be plugged up so fast that your head will spin, within a year or two the federal government will shut it down."

That could happen through formal guidance from the Internal Revenue Service, a new law from Congress or a more drawn-out court process in which the IRS challenges the claimed charitable contribution in an audit and a taxpayer fights it.

Mr. Gottheimer said he believed the use of charitable funds would be legal. Similar programs exist in more than 20 other states, Mr. Gottheimer said.

The IRS media office didn't immediately respond to a request for comment.

Republican Rep. Tom MacArthur, who was the only member of New Jersey's 14-member delegation to vote in favor of the tax bill, hadn't yet reviewed the details of Mr. Gottheimer's plan Friday. But a spokeswoman said in an email that Mr. MacArthur "remains committed to working with his colleagues to provide tax relief for New Jerseyans, which is exactly what The Tax Cuts and Jobs Act does."

There are already parallel programs in which states offer income-tax breaks for charitable donations. New York offers a maximum tax credit of $5,000 to landowners who enter into an agreement, known as conservation easements, with the state to protect land from development or certain usage. California also offers tax credits for conservation easements, as well as credits for 50% of contributions to a state fund for low-income college students.

Other states, including Alabama, Arizona and South Carolina, provide 100% credits -- with certain limitations -- for charitable contributions to tuition, conservation and foster-care programs. Mr. Gottheimer said the fact that these credits were popular in several red states made it unlikely that President Trump's administration would move to limit them.

The charitable contributions strategy can work, especially if governments structure it to look like the red-state models and argue that tax breaks for charitable contributions are different from getting other benefits, said Daniel Hemel, a tax law professor at the University of Chicago.

Creating formal and functional separation between the town governments and the new charitable funds and making the credit worth less than a dollar-for-dollar trade could help distinguish these new programs from more questionable alternatives, he said.

Governments could set up several funds for specific agencies, and the less it looks and operates like a general town fund, the harder it will be for the IRS to block without also ending the red-state programs, Mr. Hemel said.

"I would think that the IRS would say something about this at some point in the not so distant future, so it won't be perpetual uncertainty," Mr. Hemel said.

Write to Kate King at Kate.King@wsj.com and Richard Rubin at richard.rubin@wsj.com

(END) Dow Jones Newswires

January 05, 2018 16:56 ET (21:56 GMT)